Art Services Update:
Summer 2019

At Bank of America Private Bank, we maintain a keen focus on
the art market and on the collectors, dealers, auctions
specialists, and institutions that make it function. We work
closely with many of you across four pillars: art lending, art
planning, consignment services, and arts institutional endowment
management. What follows are observations on the state of the
art market from a business perspective.

The Market

Current low interest rates, solid equity markets, and more
stratified wealth creation worldwide continues to drive capital
towards art. The maturation and globalization of the art market has
expanded the collector base and transformed the art market from a
niche lifestyle into a $60 billion global industry1. Still, overall art market growth in terms
of total art sales has stalled since 2012, even as the S&P 500
has currently more than doubled since that time.

If the
Federal Reserve (Fed) continues its dovish policy, we expect
collectors’ continued allocation of capital to art. When interest
rates fall, the opportunity cost of holding non-interest-bearing
assets like art goes down. The art market is driven by sentiment, so
the greatest risk we see is a geo-political event that impedes the
global flow of capital and credit prompting collectors to
pause.

We anticipate that financial returns for contemporary
art will be lower over the next decade than some may expect. The
market has absorbed a lot of art since the turn of the century. An
exceedingly large percentage of those works may be worth close to
zero in a generation or so. And because we’re in a more mature and
efficient art market, there may be fewer upside surprises than in
decades past. We feel that you should not buy art purely as an
investment. Buy it for love, desire, legacy, culture, pleasure,
addiction, status, and community.

“We feel that you should not buy art purely as an investment. Buy it
for love, desire, legacy, culture, pleasure, addiction, status, and community.”

The Auctions

During the New York Spring Auctions, the market absorbed over
$2 billion of art at Christie’s, Sotheby’s, and Phillips, handily
above the $1.6 billion presale estimate. It was the first
auction-season defined by large estates of post-war and contemporary
art. Eye-catching results such as the $91 million Koons Rabbit, the
$110 million Monet Haystack and the rapidly growing market for KAWS
belie a more modest 5.1% annualized return2
achieved for repeat sales during the season. Given recent
performance of London auctions and the lack of clarity around a
Brexit deal, New York will continue to be the premiere sale site for
high-end post-war and contemporary art for the foreseeable future.
Fresh-to-market works, typical of the artist’s oeuvre, in good
condition, with strong provenance, continue to perform strongest at
auction. Works by female and black artists continue also their
rise.

You likely saw that in June, Sotheby’s accepted a $3.7
billion buyout offer from French media entrepreneur, Patrick Drahi.
Interestingly, Bonhams was also bought out earlier this year. Going
private will allow Sotheby’s more flexibility to compete for top
lots, which will benefit major collectors, and will provide time and
space to evolve its business model, which, like Christie’s, is
challenged. Competition for top pictures has become a
race-to-the-bottom: China isn’t the growth engine everyone hoped it
would be, and online sales have yet to deliver meaningful scale or
margin expansion. With business margins at around 10% for the
industry, auction houses are officially on the hunt for new revenue
streams.

Look for the auction houses to continue to expand
into art advisory, financial services, brand licensing, and even
investment research as they look beyond their supply-constrained
auction business. As a collector, you may see better terms when
consigning top works at auction, but expect higher commissions for
lower value works. Buyer premiums will continue to expand at all
levels. Finally, get ready for more convenience. Virtual reality
will change how you view upcoming sales and artificial intelligence
will soon be sending you an endless array of Netflix-style lot
recommendations (across all categories) based on what you’ve perused
across the internet.

“We’re currently in the age of the collector. "

The Collector

We’re currently in the age of the collector. The art market is
now a solar-system where dealers, museums, auction specialists, art
advisors, and private bankers orbit around the gravitational pull of
the collector. You now join top dealers and museum executives as
lead actors, taste-drivers, and status-makers. One major gallerist
told us that he used to collect artists, and now he collects
collectors.

The industries producing the greatest number of
new art collectors are Private Equity, Hedge Fund and Real Estate.
This new guard tends to view their collection as an extension of
their financial life. They unlock capital from their art to redeploy
elsewhere, pay attention to tax implications, and incorporate their
art early on into legacy-planning. The new collector also is
increasingly willing to sell on the way up. Collectors aren’t
sellers will soon no longer be a thing.

The new
enterprising collector understands that an artist’s influence on
other artists drives price in the long run. We’ve noticed more
collectors promoting the artists they collect, strategically
collaborating with museums, and taking a more active role in an
artist’s career. Museums, now priced out of the market, have become
more receptive to partnering with collectors early in their
journey.

Rising collectors still go to lengths to show
they’re not purely investors. They market themselves quietly to
dealers, work with reputable art advisors, acquire non-commercial
works such as installations, and become trustees of the local museum
or arts institution, all to signal that they will not flip a hot
artist at auction.

Art Fairs

Dealers we spoke to following the most recent edition of Art
Basel said it was their strongest fair ever. The art market has
become event-driven. We expect the major art fairs to become
increasingly critical nodes for the primary and even the secondary
art market.

Galleries tell us that now almost 50% of their
annual sales stem from art fairs, which benefit from two behavioral
impulses. Induced scarcity: art fairs are ephemeral and high stakes,
encouraging you to make snap decisions. And the sunk cost fallacy:
you feel obligated to acquire if you’ve trekked to Basel,
Maastricht, or Hong Kong.

With over 300 fairs globally, the
majors like Basel, Frieze, and TEFAF are aiming to solidify their
status as dominant umbrella brands that the satellite fairs will
increasingly be tethered to.Earlier this year, MCH Group, the parent
of Art Basel, sold its stake in Art Dusseldorf to focus on its
tent-pole fairs in Basel, Hong Kong, and Miami. In February, Frieze
expanded beyond London, Hong Kong and New York into L.A. as its
parent company, Endeavor, run by Hollywood super-agent Ari Emanuel,
filed for IPO. TEFAF Maastricht, long an exemplar of sophistication,
has quickly solidified its spot on the calendar with two New York
editions, which we sponsor.

Art and Technology

The art market remains one of the few industries still largely
undisrupted by technology. We’re seeing innovation but it’s still at
the fringes. While online transactions are increasing, the growth of
online sales has slowed, growing at 9.8% in 2018 versus 12% in
2017.3

Internet-native art
companies are trying to help. In June, private equity firm Cove Hill
made an investment in online marketplace LiveAuctioneers, aiming to
accelerate online sales growth for their auction house partners,
while Invaluable has made it easier to source and buy lower value
items. Major galleries like Gagosian and David Zwirner launched
digital sales channels. But the digital revolution still eludes the
art world.

On the transparency front, Christie’s became the
first major auction house to record sales via Blockchain with the
sale of the Ebsworth collection in November. At the request of the
Seller, Christie’s partnered with Blockchain-secured registry Artory
to record its transactions. It’s an interesting development but
we’re a long way from Blockchain becoming industry standard.

The most significant art world technology has been the rise of
Instagram. Artists market themselves, museums announce exhibits,
dealers initiate sales, and collectors tout their purchases through
the platform. In 2017, when the “Untitled” Basquiat sold at
Sotheby’s for over $110 million, Yusaku Maezawa posted his photo on
Instagram to let the world know of his acquisition. Younger
collectors, artists, dealers, and auction specialists are
increasingly using Instagram to enhance their personal and
professional brands. Expect the new status loop to fuel a herd
mentality for some artists and more price volatility. So collector
beware.

Top 5 artists we lend against by value:

Willem de Kooning

Andy Warhol

Constantin Brancusi

Paul Cezanne

Roy Lichtenstein

Art Lending

Our art lending business grew by 20% year-over-year, as you
all continue to unlock capital from your art to build hotels, buy
sports franchises, expand companies, and even buy more art, just to
name a few. The four most common situations we’re seeing are.

The balance sheet arbitrage: With historically low interest
rates, more of you are unlocking capital from your art to
redeploy into higher return areas of your financial life like
private equity.

Working capital line: During the
current economic expansion more of you are using art loans to
fund the growth of your privately held companies.

Monetizing a collection: The passage of the 2017 Tax Cuts
and Jobs Act Act eliminated the 1031 Like-Kind Exchange, making
it more expensive to sell art. Instead of selling art, and
dealing with paying the 28% federal tax + 3.8% healthcare surtax
+ State taxes + sales commission, many of you have chosen to
leverage your art via an art line to generate liquidity.

Guarantees: Finally we’re seeing more of you using art
facilities to back guarantees at auction (just be careful).

We estimate that total U.S. art loan commitments
stand at $16 billion. We’re proud to have significant portion of
those loans and we remain staunchly committed to the space. Given
our forecast of continued low-interest rates, stratified wealth
creation, and expansion of the collector base, we expect continued
growth in the space.

Opportunity Zones

Capital gains tax on the sale of artwork is high, up to 28% on
the federal level, plus 3.8% healthcare surtax, plus applicable
state income tax. Many of you qualified to use Section 1031
like-kind exchanges, which indefinitely deferred your federal
capital gains and healthcare surtax.

The 2017 Tax Act
repealed that provision for all taxpayers, except for real estate
investors. An unrelated provision allowing a temporary deferral and
partial elimination of capital gains has caught the attention of the
art world—Opportunity Zones. These are designated low-income areas
across the country and Puerto Rico, in which taxpayers may invest
capital gains and receive the following tax benefits:

Federal capital gain timely reinvested in an Opportunity
Zone investment is deferred until the earlier of the sale of the
Opportunity Zone investment, or December 31, 2026;

If
the Opportunity Zone investment is held for 5 years (before
12/31/26), then 10% of the original capital gain is eliminated;
if the Opportunity Zone investment is held for 7 years (before
12/31/2026), then an additional 5% is eliminated. The remaining
gain will be recognized on December 31, 2026 (subject to certain
adjustments); and

If the Opportunity Zone investment
itself is held for at least 10 years (but sold before the end of
2047), any gain on the Opportunity Zone investment itself is
avoided altogether. This benefit may prove most beneficial to
investors.

By way of example, say you
purchased a Jeff Koons Balloon Animal for $1 Million years ago and
decided to sell it now for, let’s say, $21 Million. The federal tax
on that $20 Million gain would be $6.36 Million. You could invest
part or all of your gain in an Opportunity Zone investment, defer
the gain until December 31, 2026, eliminate 15% of the original
gain, and most important, if the Opportunity Zone investment
appreciates, avoid any capital gains tax on that investment.

Sales Tax

As states feel pressure to collect more revenue, some have
increasingly focused on sales and use tax collection efforts. The
auction houses and reputable art galleries are experts in sales and
use taxes. There have been several high profile sales tax cases in
recent years, some involving criminal charges. So do not get fancy
here…heed the advice of the experts!

Art Services at Bank of America Private Bank

Art
lending

Art
planning

Consignment
services

Nonprofit
services

Leverage your collection to
generate capital

Incorporate
art and collectibles into your overall estate and financial plan
according to your unique needs

Arrange for
the sale of art and collectibles through our partnerships with
auction houses

To learn more about how we can help you manage and protect your
collection, or understand how our institutional services can benefit
your organization, contact your private client advisor or the Bank
of America Private Bank Art Services group at 646.855.1107. Visit privatebank.bankofamerica.com/art
for more information.

Through our Art in Our Communities program, Bank of America
Corporation has lent more than 100 full exhibitions to nonprofit
museums throughout the world at no cost.

Museums in 28 countries have preserved nearly 100 works of historic
and cultural significance through Bank of America Corporation’s Art
Conservation Project. For individual patrons, the Museums on Us
program has let millions of people enjoy no-cost admission to popular
cultural institutions.

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All recommendations must be considered in the context of an
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As of July 2, 2018, there is uncertainty regarding the Opportunity
Zone program, as the US Department of the Treasury has not released
guidance on many of the questions left open by the Tax Cuts and Jobs
Act of 2017. These open questions include, but are not limited to: (a)
what kinds of gains, other than capital gains, if any, can be properly
rolled into an Opportunity Fund, (b) how much time an opportunity fund
will have to deploy the capital it has raised, (c) tax treatment of
gains in an opportunity fund pass-through partnership, etc.
Accordingly, the foregoing discussion of the various aspects of the
Opportunity Zone program is based upon positions that we believe to be
reasonable given the statute as currently written and prior Treasury
and IRS precedent; however, there can be no assurance that the
forgoing discussion will ultimately prove to be correct as Treasury
begins issuing guidance and regulations on the Opportunity Zone
program. Given such uncertainty,each prospective investor should
consult with their personal tax advisors before making any
investment into an opportunity fund.

Investing involves risk. There is always the potential of losing
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Asset allocation, diversification and rebalancing do not ensure a
profit or protect against loss in declining markets.

Neither Bank of America Private Bank nor any of its affiliates or
advisors provide legal, tax or accounting advice. You should consult
your legal and/or tax advisors before making any financial
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